Partnership Taxation

Question 1

True or false? Partnerships are a taxable entity.

Answer 1

False. Income and expenses flow through to the partner to be taxed via a
Form K-1.

Question 2

When exchanging property for a partnership interest; how is gain or loss recognized?

Answer 2

Neither gain nor loss is recognized in an exchange of property for a partnership interest. It is a non-taxable event.

Question 3

What is a partner’s basis in partnership property?

Answer 3

Initial basis for partnership property is the basis of the property that was contributed or exchanged for the partnership interest.

The basis of a partnership interest acquired through the contribution of unencumbered property to a partnership is equal to the adjusted basis of the property contributed.

Question 4

When services are exchanged for a partnership interest; how is this treated for tax purposes?

Answer 4

It is a taxable event; treated the same as compensation for the services. The taxable income equals the % of partnership interest received times the FMV of the partnership.

i.e. the FMV of the interest received is the taxable income for the service provider.

Question 5

What is the partner’s basis in a partnership when they provide a service in exchange for the interest?

Answer 5

The basis in the partnership interest is the amount of taxable service revenue provided by service provider.

Question 6

What is the holding period of an asset that has been contributed to a partnership?

Answer 6

The partnership inherits the holding period of the asset contributed.

The exception of inventory- the holding period begins when contributed.

Question 7

What is the tax treatment of startup costs for a partnership?

Answer 7

Tax treatment is the same as that of an individual taxpayer.

However syndication fees are not deductible or amortized.

Question 8

What deductions are subtracted from gross revenues to arrive at partnership income?

Answer 8

COGS
Wages - except for partners
Guaranteed payments to partners
Business bad debt (if on accrual basis)
Interest paid
Depreciation (except section 179)
Amortization (Startup costs; goodwill; etc)

Question 9

How are partnership losses taken on an individual’s return?

Answer 9

Losses cannot be taken beyond a partner’s basis in the partnership

Losses in excess of basis are carried forward until basis is available

Question 10

When are guaranteed payments to a partner includable in taxable income?

Answer 10

They appear in partner’s income during the year in which the partnership’s fiscal year CLOSES.

Question 11

How are partner benefits paid by the partnership treated?

Answer 11

Health insurance; life insurance and other benefits paid on behalf of the partner are treated as guaranteed payments and are includable as self-employment income.

Question 12

How is net self-employment income from a partnership interest calculated?

Answer 12

Partner’s % share of ordinary income from partner’s K-1
+ Guaranteed payments
- Partner’s % share of section 179 expense from K-1
= Self-employment income (subject to SE tax)

Question 13

In general; what is a partner’s basis in partnership property purchased?

Answer 13

Partner’s basis is basis of goods exchanged or for services exchanged is FMV of partnership interest received.

If purchased; purchase price less liabilities incurred = basis.

For a gifted interest in a partnership; gift basis rules apply.

Question 14

Which items are not deductible on Schedule K of form 1065?

Answer 14

Foreign tax paid
Investment interest expense
Section 179 expense
Charitable contributions

Mnemonic: IFC179

Question 15

Which items are not counted as income on Schedule K of form 1065?

Answer 15

Passive Income
Portfolio Income
1231 Gain or Loss

Mnemonic: PP1231

Question 16

How is adjusted partnership basis calculated?

Answer 16

Beginning partnership basis
+ Capital contributions
+ Share of ordinary partnership income
+ Capital gains
+ Tax-exempt partnership income (DON’T FORGET!)
= Ending partnership basis

Question 17

What items DECREASE partnership basis?

Answer 17

Money distributed
Adjusted basis of property distributed
Partners’s share of ordinary losses
Partnership is relieved of a liability (considered a distribution)

Question 18

What INCREASES partnership basis?

Answer 18

Partnership getting a loan
Capital contributions
Ordinary income
Capital gains
Tax-exempt income

Question 19

How do liabilities either INCURRED or RELIEVED affect a partner’s basis in a partnership?

Answer 19

If the partnership gets a loan; this INCREASES basis.

If partnership is relieved of a liability; this DECREASES basis.

Question 20

How do guaranteed payments affect partnership basis?

Answer 20

They do not affect basis- they are already included in ordinary income; which affects basis.

Question 21

What is the order in which basis is adjusted in a partnership?

Answer 21

1. Increase basis (all items; including tax-exempt income)
2. Distributions
3. Losses (limited to basis)

Question 22

How is the taxable year of a partnership determined?

Answer 22

It must be the same as 50% of the partners and use the same tax year for 3 years once adopted.

Question 23

How does death of a partner affect the partnership’s taxable year?

Answer 23

The taxable year closes with respect to the decedent partner’s interest ONLY.

Question 24

When CAN’T a partnership use cash basis?

Answer 24

1. They have inventories
2. Partnership is a tax shelter
3. Has a corporate partner
4. Gross receipts are $5 Million or more

Exception: If gross receipts are $1 Million or LESS and Partnership maintains inventories; Cash method is ok.

Question 25

When does a partnership terminate?

Answer 25

When there is less than 2 partners (only one partner)

When 50% of the partnership interests sell within a 12 month period- partnership IMMEDIATELY terminates.

Question 26

How is gain or loss on sale of a partnership interest calculated?

Answer 26

Gain or Loss = Amount realized on sale - basis in partnership interest

Question 27

What is the new basis of a partnership interest sold?

Answer 27

Basis = Capital account + Liabilities assumed

Question 28

How is the sale of non-capital partnership property treated?

Answer 28

As ordinary gain/loss.

Items that fall into non-capital category would be unrealized receivables; appreciated inventory; and similar.

Question 29

How is a partner’s share of an ordinary gain calculated?

Answer 29

FMV of Assets (non-capital)
- Adjusted basis of assets
= Ordinary gain
x Partner’s % interest
= Partner’s share of gain

Note: No gain or loss will be recognized by a partnership upon distribution of property.

Question 30

What is the order of basis reductions for distributions from a partnership?

Answer 30

1. Money distributed
2. Adjusted basis of unrealized receivables and inventory
3. Adjusted basis of other property

Note: Only MONEY distributions will trigger a gain in a partnership distribution.

Question 31

When can a LOSS occur in a partnership distribution?

Answer 31

Only in a liquidating distribution.

Question 32

What are the requirements for recognizing a gain in a partnership liquidating distribution?

Answer 32

1. Money was distributed
2. Unrealized receivables were distributed
3. Appreciated inventories were distributed

Otherwise; no loss recognized.

Question 33

True or False: The general rule is that neither the partner nor the partnership recognizes a gain or loss on a non-liquidating distribution on partnership property to a partner. The exception is if cash is distributed and exceeds the adjusted basis of the partnership interest, the excess is recognized gain to the partner.

Answer 33

True

Question 34

True or False: When a general partnership is formed and one of the partners contributes property to the partnership which is subject to a mortgage, the other partners increase their basis by the portion of the mortgage assumed.

Answer 34

True

Question 35

What are the four elections that are made at the partnership level?

Answer 35

1) Taxable year and accounting method
2) Cost recovery methods and assumptions
3) Treatment of research and development costs
4) Amortization of organization costs and start up cost

Question 36

“Hot assets” of a partnership includes what?

Answer 36

Includes unrealized receivables and inventory. These are items that would generate ordinary income.

Question 37

For property contributed to a partnership after June 8, 1987, a partnership must hold contributed property how long before distributing it to avoid pre-contribution gain being taxed to the contributing partner?

Answer 37

Seven years.

Question 38

If property contributed to a partnership is distributed to a partner other than the contributing partner within seven years of its contribution to the partnership, what applies?

Answer 38

1) The contributing partner will be required to recognized the built-in-gain or loss at the time of the disqualified distribution.
2) Gain or Loss is calculated as if the property was sold for the lesser of its basis or FMV at the date of distribution.
3) The basis in the property and partnership interests will be adjusted for the gain or loss recognized.

Question 39

A partner may deduct his share of partnership losses subject to which 3 levels of limitations?

Answer 39

Level 1: Any deductible loss is limited to the adjusted basis of the partner’s interest in the partnership
Level 2: If there is enough adjusted basis to deduct a loss, then the partner is only allowed to deduct the amount of loss for which he is at risk
Level 3: If there is enough adjusted basis and enough at risk, then the partner applies the passive activity limits

Question 40

What is the penalty for filing late partnership return?

Answer 40

$195 per partner for each month, or part of a month, that the return is late, up to 12 months

Question 41

True or False: When a partner contributes services for a partnership interest, the partner must include the fair market value (FMV) of the services rendered as ordinary income

Answer 41

True

Question 42

What are the considerations when computing a partner’s basis in a partnership?

Answer 42

1) A general partner’s partnership basis is increased by his or her share of all recourse debt
2) A limited partner’s partnership basis is increased by their share of recourse debt if they share in partnership losses
3) The partners are allocated all recourse debt of the partnership in calculating the tax basis for their partnership investment.
4) If a limited partner is not allocated a portion of recourse debt, then the general partner’s allocation of debt must be adjusted upward to offset the limited partner’s reduced allocation